Private equity investment in the fintech sector reached record levels in 2021, with investors competing for assets that offered high growth rates, equally high valuations and the potential to rapidly disrupt existing industries. While research from CB Insights shows that fintech investment is down year on year in 2022, fintech remains a key focus for investors – the consensus is that we are seeing a correction back to levels in line with 2019-20, rather than a more fundamental retreat from the sector.
The fintech industry encompasses a broad range of subsectors, some of which will likely fare better than others when faced with an uncertain economic environment. Consumer-orientated fintechs may struggle in the face of rising interest rates, high inflation and falling consumer confidence.
These difficulties have been particularly evident with ‘buy now, pay later businesses’ (for example, Swedish fintech company Klarna’s recent fall from grace as one of Europe’s most valuable private companies). Many fintechs are, however, well placed to see continued growth, for instance those that have embedded themselves as a fundamental part of the way in which the financial services industry operates. Examples include payments solutions, and fintechs that provide answers to growing concerns such as regtech and cybersecurity.
Giving diligence its due
“B2B fintechs benefit from stickier recurring revenues than glitzier B2C fintechs”
With the cost of capital increasing and the threat of recession looming, investors will be more focused on a fintech’s ability to generate sustainable profits and cashflow and less on their potential for exponential growth. Investor due diligence will be more vital than ever in identifying such targets – we expect continued focus on B2B fintechs. They are often integral to the underlying infrastructure or operations of customers and so benefit from stickier recurring revenues than glitzier B2C fintechs.
While some fintechs have faced calls for increased regulatory oversight to protect consumers, or in light of lax money laundering controls, the UK government has championed the sector. The Kalifa Review of UK Fintech, published in 2021, set out a myriad of proposals to help the UK maintain global fintech leader status.
Although implementing these proposals has not been as swift as hoped, UK regulatory body the Financial Conduct Authority has shown willingness to work with the sector to create a regulatory environment fit for the next generation of fintechs. This is important to enable the sector to fully capitalise on opportunities offered by distributed ledger technologies, and a more holistic use of artificial intelligence by fintechs and the wider financial services industry.
Fundamentally, fintech remains attractive for private equity – continued tech progress and innovation will only increase the size of the industry and investment opportunities. With economic uncertainty suppressing valuations and a challenging IPO market limiting exit options, it may also provide an excellent opportunity for investors, if they can identify the right business.